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Equity Index Funds, But With a Twist

What's a bond firm doing in the stock market? Making a nice profit for investors, that's what. By combining stock index futures with its bond market expertise, PIMCO's Stocks Plus fund has nicely beaten the Standard & Poor's 500 over the past three, five, and 10 years--and trailed it by a hair in 2003 (see table, page 68). Its newer Stocks Plus Total Return fund, meanwhile, was ahead of the S&P by 1.7 percentage points last year and another 1.6 points in the first quarter of 2004. Investment Advisor Editorial Director William Glasgall spoke with PIMCO Senior VP Sabrina Callin about the firm's Stocks Plus and Stocks Plus Total Return funds.

Why are you investing in equities? Certainly PIMCO is not a firm that picks stocks; our expertise is bonds and related derivatives. But this allows us to provide an equity product that is quite competitive with other funds that are out there.

How does Stocks Plus work? We buy equity index futures, paying a small margin deposit. We invest the rest of the cash in a short-term fixed income portfolio similar to our short-term bond fund. This is going to provide you with a yield that's equivalent to money market rates.

Tell me about Stocks Plus Total Return. We introduced this fund in June 2002. We asked whether a long-term strategy should be in short-term bonds or in the longer-term core bond portfolio. If you invest the cash in a core bond portfolio, will you have more tracking error? Of course. But will an actively managed total return bond portfolio outperform money markets over three to five years? The answer is yes. And any excess returns are likely to be uncorrelated or poorly correlated with the equity strategy.

What if there is a bear market in bonds? There is the possibility of underperformance if there is a sharp, unexpected rise in interest rates. That is why Stocks Plus Total Return is most appropriate for an investor with a three- to five-year time horizon. The longer the horizon, the more the yield. If a rise in interest rates takes place slowly, any negative impact on [the bond portion's] price should be offset by the rising yield.